My name is J. Harry Weatherly, Jr., and I am here today representing the Government Finance
Officers Association. In June 1997, GFOA members approved a policy statement supporting the
rights of states to protect state and local government investors by permitting private rights of
actions under securities and contract law or common law trust principles.
State and local governments participate in the securities markets both as investors of temporary
cash balances and pension funds and as issuers of municipal debt. As both potential plaintiffs
and defendants, they have an interest in assuring that the system is scrupulously fair to all parties.
Opportunities for profit flourish in the current economic environment, but so do opportunities for
those seeking to take advantage of investors. The over 2,300 state and local goverm-nent defined
benefit employee retirement systems in the United States have approximately $2.2 trillion
invested on behalf of their 16.5 million members, with approximately 60 percent in stocks.
The Private Securities Litigation Reform Act (PSLRA), enacted in 1995, was designed to reduce
frivolous lawsuits, a goal supported by state and local governments. However, public investors
opposed the bill as passed because it severely limits the ability of investors, including state and
local governments, to pursue securities claims against wrongdoers in federal courts. We do not
yet know how key provisions of this law will be interpreted by the courts. GFOA believes that
further changes to the securities laws at this time are premature.
The enforcement of securities laws has been one area traditionally shared by state and local
governments. Even when the last Congress made sweeping changes to the securities laws, it left
to each state the determination of protection under state anti-fraud laws. Congress should not
substitute its own judgement for that of duly elected state legislatures in attempting to provide
investor protection for their citizens.
Figures from the Public Pension Coordinating Council show that just under $1.2 trillion of
pension funds would be at risk under the proposals under consideration. This also places general
governments at risk because they would be obligated to make up the losses that could not be
recovered by their pension funds. This could lead to serious fiscal consequences for
Despite the claims of preemption proponents, recent figures show that securities fraud class
action filings in state courts are not only down from 1996 (the year following the PSLRA) but
down from earlier years as well. The argument that there has been an explosion of state court
cases filed to circumvent the PSLRA has been the justification for these preemption proposals,
but there is now no evidence to support it. State and local government investors fear that this
legislation is an attempt to further shield wrongdoers from liability.
GFOA urges Congress to heed the cautious approach taken by the SEC that it is premature to
make additional changes to the law when the full effects of the PSLRA are not known.
Thank you, Mr. Chairman. My name is J. Harry Weatherly, Jr. I am the Director of Finance for
Mecklenburg County, North Carolina, and a member of the Executive Board of the Government
Finance Officers Association (GFOA), and I am here today on behalf of GFOA. I am pleased to
be here this afternoon and I appreciate the opportunity to discuss with the Subcommittee
proposals to extend the application of the Private Securities Litigation Reform Act of 1995 to the
GFOA is a national professional association of 13,500 state and local goverment officials, whose
responsibilities include all the disciplines related to public finance. In June 1997, GFOA
members approved a policy statement regarding the preemption of state investor protection laws
which expresses the Association's support for the rights of states to protect state and local
government investors by permitting state private rights of action under securities and contract
law or common law trust principles. This policy also opposes federal efforts to preempt state
laws regulating investments and securities transactions and efforts to further limit access or
remedies provided by state courts.
STATE AND LOCAL GOVERNMENTS AND THE SECURITES MARKETS
Perhaps more than any other party involved in the debate over securities litigation, GFOA has an interest in assuring that the system is fair to all. State and local governments participate in the securities markets as both long-term and short-term investors -- investors both of pension funds and of temporary cash balances. In addition, state and local governments are also issuers of municipal debt. They are therefore both potential plaintiffs and potential defendants. As both investors and issuers, state and local governments are uniquely qualified to understand the nature of securities litigation. They have a fundamental concern for a scrupulously fair litigation system in order to preserve well-established investor rights as well as protect themselves from unwarranted and expensive
litigation. State and local government officials represent the same constituents that the members
of this distinguished Subcommittee represent and, like you, want to ensure that taxpayer funds
States seek to protect their public funds through passage of state securities statutes that are
designed to respond to specific state conditions and circumstances. In addition to the enactment
and enforcement of securities regulation, states also enact investment statutes designed to protect
taxpayer monies. For state and local governments, the concept of investor protection includes
meaningful access to the judicial system so that victims of securities fraud have effective
remedies against those who violate securities laws or their common law fiduciary
William McLucas, Director of Enforcement for the Securities and Exchange Commission (SEC),
noted last year that the stock market's bullishness "has led to a sharp rise in securities sales fraud
and stock price manipulation." In fact, the robust market makes it possible for losses to be hidden
more easily, at least temporarily. In recent years, the pool of potential securities fraud victims
has grown dramatically. In addition to the increase in individual ownership of stocks, the over
2,300 state and local government defined benefit employee retirement systems in the United
States have invested approximately 60 percent of their over $2.2 trillion of pension fund assets in
stocks on behalf of over 16.5 million active and retired members. In North Carolina, our ten
state and local government employee pension funds have assets of over $19.4 billion and serve
over 400,000 members. Opportunities for profit flourish, not only for investors but for
wrongdoers as well.
The current trend in both public and private retirement plans is toward self-directed investments,
and there is a proliferation of proposals to privatize Social Security. In addition, the resources
available for federal enforcement have been reduced, while state regulators are observing a
higher incidence of securities fraud. For example, securities regulators across the nation last year
undertook widespread enforcement actions against both companies and brokerage firms that have
been involved in targeting investors in stock fraud schemes. In December, the SEC settled fraud
charges against a Pennsylvania financial adviser it charged with having lost $71 million of
municipal bond proceeds belonging to 75 Pennsylvania school districts. As a result, at least one
national rating agency has already downgraded the credit rating of one school district's bond
issues and has placed others on credit watch. This seems a particularly inauspicious moment for
consideration of curtailed state remedies for defrauded investors.
THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
The Private Securities Litigation Reform Act of 1995 (PSLRA) was opposed by a coalition of
state and local government organizations, consumer and senior citizen groups, labor unions, and
others. Although these groups supported a reduction in "frivolous" lawsuits, they were greatly
concerned that the new law would be detrimental to meritorious cases as well. The ability of
investors, including state and local governments, to pursue securities claims against wrongdoers
in federal courts is severely limited under the PSLRA. It sets potentially insurmountable hurdles
for defrauded investors with respect to pleadings, imposes restrictions on discovery, and contains
other harsh provisions, while permitting "safe harbors" for forward-looking statements. Despite
the recommendations of this coalition, the PSLRA also failed to include more reasonable statutes
of limitations and to provide liability for those aiding and abetting fraud -- provisions available in
many states, recommended and still supported by the SEC. Yet even at the time the PSLRA was
being debated, Congress purposely left intact state statutes as a buffer against interpretations of
the law inconsistent with investor protection. Because of the time necessary for cases filed since
enactment of the PSLRA to work their way through the legal system, significant portions of the
PSLRA remain uninterpreted by the courts. It is conceivable that there may be no viable federal
remedy left for defrauded public investors; preemption of state remedies could entirely eliminate
the safety net for state and local governments.
Because of the uncertainty surrounding the eventual interpretation of the PSLRA, state private
rights of action may remain in many cases the only method of obtaining recovery for defrauded
investors by permitting liability for aiding and abetting wrongdoing, joint and several liability,
and reasonable statutes of limitations for the filing of claims. Many causes of action do not
depend on an alleged violation of state or federal securities law, but on state contractual or
common law fiduciary violations long recognized as state prerogatives. GFOA believes that this
unfinished interpretation by the courts makes enactment of further major alterations to our
securities laws unwarranted and unwise.
CURRENT LEGISLATIVE PROPOSALS
Despite the growing threats to both large and small investors, both public and private, and both
institutional and individual, a new threat looms as some seek to extend the PSLRA's restrictive
prohibitions to the states by preempting state private rights of action through the promotion of socalled "uniform standards. " This legislation would make it even more difficult for investors
defrauded in securities transactions to recover damages. The Securities Litigation Uniform
Standards Act, S. 1260, would preempt state private rights of action brought through class action
State and local government leaders have become increasingly concerned about federal
preemption of historic and essential state and local responsibilities and authority. The federal
government has already preempted much state and local authority with regard to
telecommunications issues, rights-of-way, and numerous areas involving zoning authority.
Federal preemption has the potential to interfere with some of the most fundamental duties of
state and local governments, of which the provision of securities laws is one of the more
significant. In this area, federal and state governments have traditionally shared responsibilities.
States enacted protections against financial schemes in the early 1900s. Congress passed federal
securities laws in 1933 and 1934 both to complement state laws and to stop abuses that had
caused the 1929 stock market crash. This system of "dual sovereignty" was clearly envisioned by
the framers of the Constitution and has worked well. It has ensured protection for all investors at
both the federal and state levels. During his appearance before this Subcommittee last fall, SEC
Commissioner Isaac Hunt stated that a balance should be struck between state and federal
litigation, and supported this dual system of regulation and investor protection.
Even when the last Congress made sweeping changes to the investor protection laws through the
PSLRA, it wisely left to each state the decision of how best to protect its own citizens under state
anti-fraud laws. However, some in Congress, while professing to support the "devolution" of
responsibilities to the states, would instead encroach on state sovereignty by mandating what
types of cases states may allow in their own courts and how their residents and taxpayers will be
protected from securities fraud. This represents a drastic departure from the concept of
In fact, S. 1260 would dismiss the states' own legislative judgments; in an area where states are
frequently the leaders. Where states have identified and targeted specific or potential problems
associated with securities transactions affecting their citizens, they would be preempted from
dealing with these problems as they see fit. Instead, Congress would replace the decisions of
duly elected state legislatures with its own. State and local officials in the forefront in dealing
with defrauded individuals or who may themselves have been defrauded as managers of public
investments funded by their taxpayers would see their roles in investor protection further limited.
All states would thereafter operate under a uniform, untested and perhaps flawed national
This legislation would preclude states like North Carolina, for example, from setting its statute
of limitations at the current two-year period and effectively reduce it to half that time, as well as
from its provision of joint and several liability. It would preclude California from maintaining its
four-year statute of limitations. It would preclude New York from setting a statute of limitations
for civil actions for investment fraud for six years after discovery of the fraud. It would also
eliminate private liability for those who aid and abet investment fraud and enable other
wrongdoers to escape full responsibility to their victims by abolishing joint and several liability,
also available under New York law. Mr. Chairman, it is because of such concerns that over 100
finance officers from the New York State Government Finance Officers Association
(NYSGFOA) wrote to Chairman D'Amato last fall. The finance officers in New York expressed
their concern about their 24 pension funds with a total of over $120 billion in assets. In that
letter, the finance officers stated that "The ability of our retirement systems to recover in the
event of securities fraud is absolutely essential to ensure the continued viability of these systems,
to protect the funds of general governments from having to make up losses in the retirement
systems' funds, and to protect the credit rating of state and local governments in order to keep
borrowing costs low. " A copy of the NYSGFOA letter is attached to this testimony.
Those supporting preemption legislation have also ignored the effect that it would have on the
investments of individuals. churches. schools, and charities, as well as of state and Iccal
governments, and particularly the almost $2.2 trillion in public pension fund investments. S.
1260 and the House bills under consideration would impose litigation restrictions with regard to
"covered securities" -that is, nationally traded stocks. These particular proposals are especially
important to public pension funds which, unlike most general governments, are permitted to
invest directly in stocks. The Public Pension Coordinating Council's 1997 survey of public
retirement systems, which is the most detailed single source of data on state and local
government retirement systems available, indicates that these systems invest approximately 60
percent of their assets in domestic stocks. Thus, about $1.2 trillion in pension funds belonging to
state and local government employees is at risk under this legislation.
In addition, if a defrauded public pension fund with a defined benefit plan is unable to recover its
losses, the general government is legally obligated to make up for those losses. If a state or local
government's public pension fund is unable to pursue legitimate claims and recover damages, this
loss could lead to higher taxes, the loss of jobs, the inability to provide needed governmental
services, severe damage to credit ratings, and a consequent higher cost of borrowing money to
fund capital and operating expenses. Smaller governments. which are often participants in
investment pools or state retirement systems, are particularly vulnerable. If they are defrauded,
they must join a class action to pursue their claims because they are unable to afford the expense
and burden of individual litigation. These governments may already be precluded from recovery
in federal court; with the passage of proposed preemption legislation and its limitations on class
actions, they could find it impossible to seek relief in state court as well. The failure of state and
local governments to recover damages can result in our constituents -- our taxpayers and citizens,
and yours -- being penalized for the wrongdoing of others.
STATE CLASS ACTION LAWSUITS
Proponents of preemption legislation contend that it is needed because the PSLRA is somehow
being evaded by plaintiffs who are filing class actions in state courts due to the difficulty of
bringing suit in federal court. However, new figures on class actions filed during 1997 contradict
previous figures repeatedly cited as evidence of this migration and undermine the primary
argument for preemption of state private rights of action. The new figures, published by the
accounting firm of Price Waterhouse, show that state class actions are not only down from 1996
levels (following enactment of the PSLRA), but are actually below the number filed in each of
the two years preceding the PSLRA's passage. For all of 1997, these figures show that only 44
securities class actions were filed in state courts, compared with 67 in 1994 and 52 in 1995.
The Price Waterhouse report demonstrates that the trend represented by 1996 figures was an
aberration. The relatively few state court filings -- in any event, a minuscule portion of the
roughly 15 million civil cases filed in state courts each year -- have been offered in the past as the
main justification for another attempt at major securities law reform. The lack of quantitative
evidence supporting this position raises the concern that there may be some other motivation
underlying the proponents' efforts in this area. We fear that this may be an attempt to further
widen the shield from liability that was originally created by the PSLRA.
In addition, information from the Stanford Securities Class Action Clearinghouse shows that,
since the enactment of the PSLRA, close to two-thirds of all securities class action cases have
been filed in California state courts. No other state has had more than seven cases filed; most
have had none. There is no legitimate federal purpose in overriding all state securities statutes to
deal with problems that may exist in a single state. If California officials view these class action
suits with concern, the proper forum is Sacramento, not Washington.
Mr. Chairman, GFOA urges Congress to be wary of legislation that would preempt states in the
exercise of a traditional and necessary state function. There is no final judicial interpretation
regarding any of the key provisions of the PSLRA. As we have testified, recent figures explode
the myth that class action suits are flooding state courts. Tampering with state anti-fraud
authority would place at risk the retirement savings and investments of millions of Americans.
Now is the time to strengthen, not weaken, state and federal remedies against securities fraud.
More fundamentally, Congress should respect the prerogatives reserved to the states by not
interfering with the ability of states to protect their public coffers and their citizens through their
own securities laws.
GFOA urges Congress to heed the cautious approach taken by the SEC, which is that it is
premature to make additional changes when the full effects of the PSLRA are yet to be
determined. This position was reiterated by SEC Chairman Levitt in his testimony last October
before the House Subcommittee on Finance and Hazardous Materials when he stated that,
"Overall, we have not had enough practical experience with the Act to produce the data necessary
for us to measure its success. "
We appreciate your interest in this matter which is of particular importance to state and local
governments and their citizens. On behalf of GFOA, thank you again for the opportunity to
testify before the Subcommittee today.
Home | Menu | Links | Info | Chairman's Page